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During the past 20 years, the author has watch China move from being a developing country into an industrial superpower
Money Moves, 5/24: Chocomize Co-Founder Fabian Kaempfer talks with Bloomberg’s Deirdre Bolton about the business of customizing chocolate
The president's campaign has a new rule—no cell phones allowed
In honor of remote control inventor Eugene Polley, we recognize other influential but neglected inventors who have felt the sting of stolen glory
Forget Adderall. Traders now pop chia seeds to stay focused and energized
The Italian automaker and others are adding hybrid technology to elite cars
The storied bridge that links San Francisco and Marin County changed the face of California
Schools cultivate ties with startups before they're big successes
Dave McClure's traveling venture capital show scours the world for promising startups
Get Four
|  | DECEMBER 28, 2004
The Decade of the Dividend? [Page 2 of 2] Q: Do you have any worries about rising interest rates? A: Well, we don't try to make predictions as to whether interest rates are going up or down -- although I do have to admit everyone seems to be betting on rates going up, which makes me think from a contrarian view point that maybe they could be coming down. I can't ever remember a period in recent history where everyone is convinced long rates have to go up. We've seen short rates rising, but long rates holding steady... Q: What companies do you like in financial services? A: Our top three holdings in the fund are all financial services: Berkshire Hathaway, White Mountains, and Markel. All of these companies are growing at a rate at least double the average company. Yet they trade at a discount to the market. One of our recent purchases, Genworth (GNW ), is a recent spin-off of General Electric (GE ). GNW trades at a modest premium to book value yet has the potential to grow at a double-digit pace. Q: What do you like, and/or own, in health care? A: We have positions in Novartis and Johnson & Johnson. Both have strong product pipelines, are well managed, and have strong financials. Q: Where would you put new money at this point with a slightly conservative approach? A: Despite the market being overvalued, we're being very selective in finding opportunities in...stocks such as Berkshire Hathaway, Genworth, Anheuser-Busch, and Tyco. For example, Berkshire Hathaway has an adjusted book value well in excess of its current stock price. Anheuser-Busch is modestly priced, despite its dominant position in the beverage market, and it has a very low cash dividend payout. Q: Any theories on why these solid stocks have such relatively low valuations? A: Mainly short-term concerns. In the case of Berkshire, investors are concerned about Buffett's age, recent earnings disappointments, and just a general lack of popularity with insurance stocks. With BUD, the concern is over short-term earnings disappointments with respect to high-premium spirits taking share away from the domestic beer market. All of these short-term issues can be corrected. We tend to take a longer view than most. Looking ahead of the immediate future, we have nothing to add over the 100,000-plus other analysts focusing on next quarter or next year. Instead, we look beyond at a 5- to 10-year time frame. Q: Earlier you mentioned the cash and dividend potential in the consumer sector. What might you like there? A: BUD is one that we just mentioned -- Gillette, Cadbury (CSG ), Kraft, and Altria (MO ). Again, we have companies that are retaining more cash than they need, are way overcapitalized, and have the ability to pay substantially higher dividends. Unfortunately, most management teams are still living in the '80s and '90s, thinking they'll be able to use the cash for internal growth opportunities or acquisitions. But with the new dividend tax law, general overcapacity in nearly every industry, a mature economy, and a flat stock market, they'll feel increasingly higher pressure from shareholders to return the cash to them. Q: If you look out 5 to 10 years, how do you do the research that gives you such a long-term perspective? A: We simply look at the current cash-flow characteristics of a company, its competitive position, what it has done in the past, and what it's likely to do in the long-term future. We don't make bold predictions about the future growth of any company. Instead, we use extremely modest growth forecasts and wait for the market to bring valuations in line with our buy target. Normally, companies that had very predictable cash-flow generation in the past don't change dramatically over the long term, at least in the sectors we focus on (consumer staples, financial services, and health care). We don't need to be exactly right on next quarter's earnings estimate or next year's growth forecast, but just roughly right about the company's long-term cash generation. There may be only 300 companies we have confidence in where we can make such long-term predictions, and that's the universe we focus on. Q: And have you been "roughly right" with those predictions so far? A: Well, I think the fund's performance speaks for itself. You don't have to be right all the time, but just a little bit over half the time, as long as you don't make any major mistakes. What kills a portfolio are the positions where you're wrong on, when they fall in price 50%-plus. That's what we try to avoid with many safety measures. Q: How would you rate your fund's risk level? A: Very low. Morningstar has us ranked in the lowest-risk fund category. Our volatility is less than two-thirds the average fund. We normally participate in less than half of a down market, but 75% to 95% of an up market. That's due to our conservatism in the positions we buy. You would think, with our above-average concentration, we would be far more volatile, but we tend to defy conventional wisdom by having the opposite. Normally, you can get 95% of your diversification benefit from 20 securities or less, yet the average fund purchases 100 or more securities, diluting the fund shareholders' performance. We don't think the average fund will have the luxury of hugging a benchmark over the next 10 years, due to the reasons I mentioned before -- a modest market environment. One will have to focus on a select few high-quality, dividend-paying securities to generate satisfactory returns, instead of buying two of everything. Q: Have you done anything with energy stocks, which are in the spotlight now because of oil prices? A: Historically, we have underweighted our fund in energy because of the volatility in prices and the lack of predictability, longer-term. We do have a select few holdings in Royal Dutch (RD ) and ChevronTexaco (CVX ). These tend to be more predictable than the average energy company. We're not anxious to add more to this sector due to the recent run-up in energy prices and the respective valuations of securities in this sector. You typically buy these companies when oil prices are at $10 to $13 a barrel, not $40 to $50 a barrel. Q: You referred to benchmarks a moment ago. How is the New Market Fund doing relative to the S&P 500? A: The New Market Fund has outperformed by a significant amount. For five years, we have outperformed the market by nearly 8.5% a year. For three years, we have outperformed the S&P 500 by nearly 5% a year. For one year, we have outperformed the S&P 500 by 3%, with a 16% rate of return. And year-to-date, we're up nearly 15%, which is 4.5% above the S&P 500.
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